Proof positive of new confidence

There are plenty of sceptics about the effectiveness of quantitative easing by the central banks of the United States, Europe and Japan, but there is one measure that unequivocally shows that it is working.

The key indicator in question is credit market conditions for non-financial corporates, which is at its best level in five years. Conditions were so good in 2012 that non-financial corporates issued a record amount of bonds, both in volume terms and as a percentage of gross domestic product.

This transformation in the public markets for raising debt is a powerful sign that confidence has returned to global markets. This should underpin a return to more normal conditions in areas of business activity that have been depressed, such as mergers and acquisitions.

Corporate bond yields have fallen right across all markets around the world, including Australia. It is now the case that investment-grade corporations can raise money at rates that are cheaper than banks.

The RBA notes some of the bond issues by companies have been used to replace loans from banks. In other words, corporates have been able to retain access to funding despite the fact that banks have been shrinking their balance sheets.

The favourable developments in corporate bond markets are being replicated in bank funding markets.

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Investor confidence in bank bonds is now back to the levels seen before the crisis struck in 2008 as measured in terms of spread to risk-free assets.

The spread between the interest paid on bonds issued by Australia’s major banks and the interest paid on Commonwealth government securities (CGS) is now the tightest it has been since the crisis.

The RBA says that relative to CGS, secondary market spreads have fallen by 125 basis points since their most-recent highs, which were recorded around the peak in concerns regarding the sovereign debt situation in the euro area.

“Unsecured bond spreads are now close to their lowest level since the start of the global financial crisis, and covered bond spreads are at their lowest level since the banks started issuing these types of bonds in November 2011," the RBA says in the monetary statement.

Another indicator of improved market sentiment can be seen in the buyback of government guaranteed bonds by Australia’s major banks. It is now cheaper for banks to issue non-guaranteed debt.

This happened as
Bendigo and Adelaide Bank
was able to issue $850 million in residential mortgage backed securities, including $790 million A-class securities at 95 basis points over bank bill swap rate. That is a further indication of improving sentiment because it is the tightest pricing on a transaction of this type since mid-2011.